Future Business Leaders of America (FBLA) Securities and Investments Practice Test

What does "best efforts" mean in underwriting?

1. Underwriters take no risk for unsold shares

2. Underwriters guarantee all shares will be sold

3. Underwriters hold the funds for a set period

4. Underwriters manage the issuance process

The correct answer is: Underwriters take no risk for unsold shares

In the context of underwriting, "best efforts" refers to a type of arrangement where underwriters agree to sell as many shares as possible but do not guarantee that all shares will be sold. This means the underwriters take no financial risk for any unsold shares, providing a level of security to the issuer. If some shares remain unsold after the offering, the issuer does not bear the cost of having those shares purchased at a predetermined price. This arrangement allows issuers to raise capital without the risk of having to sell all the shares or facing financial losses related to unsold stock. The underwriting process under this model relies on the underwriters' effort and expertise to market the shares and generate interest, which necessitates a strong understanding of market conditions and the target audience. Thus, in a "best efforts" underwriting, underwriters essentially act as intermediaries whose primary obligation is to use their best efforts to sell shares rather than having a commitment to buy any unsold portions themselves.